CMS’ failure to provide notice and comment on guidelines to establish a Medicare reconciliation process for outlier payments was improper. The D.C. district court granted Clarian Health West, LLC’s (Clarian) motion for summary judgment against HHS, finding that the agency lacked the authority to enforce the criteria contained in the implementing manual and require Clarian to repay over $2.4 million (Clarian Health West, LLC v. Burwell, August 26, 2016. Jackson, K).

Hospital payments. Under the prospective payment system (PPS) for Medicare, hospitals receive a set reimbursement amount for each patient that the government believes covers the cost of care for a particular diagnosis. These payments are calculated by Medicare administrative contractors (MACs) starting with a standardized amount. MACs adjust the amount according to the patient’s diagnosis related group (DRG), which is weighted according to the estimated cost of care compared to other groups. Hospitals also receive outlier payments to compensate for instances in which a specific beneficiary’s cost of care is considerably more than the prospective reimbursement.

Reconciliation process. In response to hospitals’ efforts to overbill and receive more in outlier payments by increasing the charges for inpatient care, HHS created a Final rule (68 FR 34494) in 2003 that revised the outlier payment methodology. The rule also established that MACs could reconcile outlier payments after the cost report for the appropriate time period was settled, which can take years (42 C.F.R. sec. 412.84(i)(4)).

The rule did not establish how the reconciliation process would work, and the HHS Secretary stated that HHS would issue guidelines at some point in the future. Over seven years after the rule came into effect, MACs were given standards to use for reconciliation in the 2010 Medicare Claims Processing Manual, Chapter 3, section 20.1.2.5. A hospital’s payments could be subject to reconciliation if the actual operating cost-to-charge ratio was over 10 percentage points different than the ratio used to calculate the payments, and the outlier payments in that reporting period were over $500,000.

Clarian. Clarian, located in Indiana, was subject to the reconciliation process for 2007, resulting in a demand to repay more than $2.4 million. Clarian stated that it was not attempting to overbill when it filed claims, but that the cost-to-charge ratio is high for new hospitals and decreases in subsequent years. The original outlier payment calculation was based on 2005 and 2006 cost reports, which had higher ratios than 2007.

Rulemaking. Clarian presented three arguments in its motion for summary judgment: (1) HHS failed to follow notice-and-comment requirements for rulemaking when adopting reconciliation standards; (2) HHS failed to consider various factors when establishing the reconciliation process; and (3) the guidelines transgress statute of limitation and beneficiary notification requirements.

The Administrative Procedure Act (APA) (P.L. 79-404) requires agencies to provide the opportunity for notice and comment when creating policy, which applies to Medicare-policy that is considered to be a "substantive" rule. Exemptions are available for certain situations, such as interpretive rules. Although the APA establishes an exemption for procedural rules, the Medicare statute does not (42 U.S.C. §1395hh(b)(2)).

The district court analyzed the requirements for interpretive rules, and determined the reconciliation guidelines had the characteristics of a substantive rule. Interpretive rules clarify terms, remind entities of requirements, or track preexisting requirements. The court found that HHS could not point to any textual reference points to base the rule on that would render it interpretive. The court found that the reconciliation process was a change in agency policy and implicated policy interests that tend to result in notice-and-comment rulemaking. The presence of these two "quintessential" characteristics of a substantive rule convinced the court that the guidelines should have been subject to the rulemaking process.

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